We received a call from a potential customer, referred to us by a real estate agent we work with, who was looking to get qualified for a home price of about $400,000. He had just received a large inheritance and was debating on exactly how much to put down on the home. He had a figure in mind but wanted to run the numbers. Here is how the numbers played out at his figure of $250,000 down:

Pretty good payment for a $400,000 house!  Now that we know what it would look like based on the number in his mind, we started to play with the numbers a bit.

First let’s look at how much you can save for every $1,000 you put down.  Through a simple mortgage calculator you can calculate how much $1,000 over a 30 year loan, fixed at 5% will change your monthly payment.  It comes out to $5.37/mo.  What this means is that for every $1,000 you put down your principal and interest payment will decrease about $5.37/mo.  In this example, he is putting $250,000 down or $236,000 more than the minimum (minimum is 3.5% or $14,000).  That means that the monthly principal and interest savings is about $1,267.32 (236 X $5.37).  5% is a great rate and historically very low, so let’s look at some other examples based on average 30 year fixed mortgage rates from Freddie Mac:

• 2009 Average= 5.04% or $5.39/mo per $1,000 down
• 2000 – 2009 Average = 6.29% or $6.18/mo per $1,000 down
• 1972 – 2009 Average = 9.28% or $8.25/mo per $1,000 down

When people see these figures they are normally very surprised how little $1,000 down will impact their payment.  There are certainly other factors to consider though.  Probably the biggest factor to consider is mortgage insurance. Mortgage insurance protects your lender and is required when you put less than 20% down on a mortgage.  There are 2 main types of mortgage loans and the monthly mortgage insurance amounts vary for each:

• FHA – 1.75% Up-Front Mortgage Insurance Premium (Changing to 2.25% Apr 5)
  • .55% of loan amount divided by 12
• Conventional
  • 5.00 to 9.99% Down Payment = .94% of loan amount divided by 12
  • 10.00 to 14.99% Down Payment = .62% of loan amount divided by 12
  • 15.00 to 19.99% Down Payment = .38% of loan amount divided by 12

These mortgage insurance factors add a level of complexity to calculating the savings of putting more down.  Let’s look at the monthly payment of principal, interest and mortgage insurance at different amounts down:

Based on this table you can see that by putting down an additional 5%, or $10,000, you save more than just the $5.37/mo, calculated in the first example. The difference between Conventional 5% and Conventional 10% is $109.51 instead of the $5.37/mo per $1,000 down calculation of $53.70. This is because of the drop in the MI factor dropping from .94% to .62%.

Getting back to our example with this gained knowledge we know that a 20% down payment should be the least amount the customer should consider.  This will allow him to avoid paying mortgage insurance and provide him the biggest bang for his buck.  From there it became a decision of personal choice and calculating whether to put money down or invest with a better return on his money.

Rather than redo all the calculations on this question, I will direct you to check out Get Rich Slowly who wrote a post titled Ask the Readers: Is it Better to Invest or Prepay a Mortgage.  The great thing about this post is that it not only gives you great resources for making this decision but also gives you the calculations and opinion of others.

My customer decided that even though he may be able to get a better rate of return in the stock market or other investments he still wanted to put the full $250,000 down.  Ultimately you are the one that needs to determine what is best.  Mathematical calculations will likely show it is better to invest than to buy down the mortgage but the emotional side of having the security of a low monthly mortgage payment can weigh heavily on this decision.

Lending A Hand

Scott Wynn

The Wynn Team

CHFA FirstStep

Through the sale of non-taxable mortgage revenue bonds, CHFA is able to offer mortgage rates at or below market interest rates for first time buyers (anyone who has not owned a home for the past 3 years).

CHFA FirstStep Plus

Same program as the FirstStep with the addition of a second mortgage loan to assist with down payment, closing costs, prepaids and/or temporary buy downs.  The maximum amount of the second mortgage is 3% of the first mortgage amount.

Income Limits

Both of these programs do have income limits associated with them.  The entire household (everyone over 18 who will live in the home) must be below the total income as follows:

• 1 Person Household = $60,800
• 2 Person Household = $76,000
• 3+ Person Household = $87,400

Additional Restrictions

• CHFA is only available within the state of Colorado
• Borrowers must work with a CHFA Approved Lender
• Can not be combined with the Mortgage Credit Certificate
• Must be owner occupied and qualify for FHA, VA or USDA Mortgage Loans
• Additional restrictions may apply and details can be found at CHFA

Interest Rates

Rates can change at any moment but at the moment I type this the First Step Rates are:

• FirstStep = 5.000%
• FirstStep Plus = 5.25%
• Rates can be found on the CHFA website at http://www.chfainfo.com/lender/Single_family_lending_partners_and_realtors/Todays_rates.icm

Lending A Hand

Scott Wynn

The Wynn Team

I received a call from a customer who was interested in a condo and wanted a maximum monthly payment of $1,000.  We’ll call him Gaston (obviously a fictitious name).  Gaston had only $1,000 to put down on the purchase of his new home.

His limited cash issues told me three things:  We would need to go with an FHA loan which has a lower down payment requirement than conventional financing (3.5% vs. 5%), Gaston would need to utilize a down payment assistance program for the remaining 3.5% of his purchase price, and he would need the seller to pay the bulk of his closing costs.

Colorado Housing and Finance Authority (CHFA) always has funds available to lend to qualified buyers and they have down payment assistance programs buyers can utilize when financing their first mortgage through CHFA.  Although Gaston had excellent credit, CHFA’s minimum credit score requirement is typically lower than most investors, which makes it an even more useful program.  Their interest rates are currently higher, however, which is the only downfall of utilizing CHFA.

JumpStart2 is a CHFA program that would allow Gaston to borrow the 3.5% down payment and monetize the federal First-Time Homebuyer Tax Credit Program.  Payments and interest are deferred until December 31, 2010 so as long as he pays the entire balance of the second mortgage when he receives his $8,000 tax credit he won’t owe any interest.

The property Gaston was most interested in purchasing was listed at a much higher price than we had calculated he could afford.  He made an offer to purchase the property at a price that met his maximum monthly payment.  The seller countered, but not at a price low enough for him to purchase it.

We went to work to determine if there were any other avenues we could take to bring his monthly payment down.  We asked Gaston if he could put more money down on the transaction.  If he were able to use his own money for down payment, we would be able to finance an FHA loan without using CHFA, which would decrease his interest rate and lower his payment.

Gaston did not have the ability to put 3.5% down so we knew we needed to use a down payment assistance program.  He was purchasing in Denver so we decided to call the Colorado Housing Assistance Corporation (CHAC) program to see if they had funds available.  This program would allow Gaston to utilize their funds for down payment assistance.

The CHAC loan would be a second mortgage without prepayment penalty, so although he would be paying some interest before receiving his tax refund, he could pay off the second mortgage rather quickly.  In addition, we could utilize an FHA loan at a lower interest rate than CHFA was offering so he would actually be saving money on interest overall.

Gaston also made the decision to apply for the statewide Mortgage Credit Certificate (MCC) program that can help homeowners justify a larger monthly payment.  The MCC program would allow Gaston to claim a dollar-for-dollar reduction of income tax liability equal to 20% of his paid mortgage interest each year he lives in the home….forever.

His credit each year was going to equate to roughly $1,670 or $139 per month.  In addition to receiving the 20% credit on his federal taxes, the remaining 80% of the paid mortgage interest would continue to qualify as an itemized tax deduction.

In the end, we were able to get Gaston into the home he preferred at the seller’s counter offer price by using CHAC and an FHA loan.  This lowered his interest rate and therefore, his monthly payment.

Lending A Hand

Marla Wynn

The Wynn Team

Bonnie and Clyde (fictional names, of course) called us up the other day to get qualified for a home purchase.  Apparently the robbery profession isn’t what it used to be.  Anyway, we started through the questions to complete a pre-qualification, including:

• Legal Name
• Home Address
• Current Employer
  • Job Title
  • Length of Time with Employer
• Income
  • How Often Pay Received
  • Type of Pay
    • Hourly/Salary
    • Bonus
    • Overtime
    • Commission
    • Self Employment
    • Etc
• Assets
  • Checking
  • Savings
  • Investments
  • Retirement
  • Gifts (from relatives)

Once this information was gathered we had a couple of choices:  we could run a credit report to see what the score looked like or we could discuss the debts as Bonnie and Clyde knew them.  In this case Bonnie and Clyde decided to run the credit report to so we could a listing of all of their debts as well as the scores.  Here is how it turned out:

Bonnie

• 563 Experian
• 581 TransUnion
• 593 Equifax

Clyde

• 536 Experian
• 544 TransUnion
• 538 Equifax

Our most recent post discussed the representative score for a mortgage.  In this case the representative score would be a 538.  538 credit score is not sufficient to qualify for A-Paper mortgage options so we discussed Bonnie and Clyde’s options with them:

Options When One Borrower’s Scores are Higher than the Other:

1. Remove the borrower with the lower score

By removing the borrower with the lower credit scores you can effectively increase the representative score for the loan.  In this case, if we removed Clyde, the representative score would go from 538 to 581 (removing Clyde removed the lower of the two representative scores so now we just go with Bonnie’s)

2. Change borrowers

In some cases there are opportunities where we can remove a borrower with a low credit score and use another person who will be occupying the home. An example we see commonly is multi-generational families living together. If the husband and wife are looking to purchase with the husband’s mother, we now have 3 borrower options (husband, wife and mom). If say, husband can not qualify due to credit scores, mom may be added to the loan in place of the husband.

3. Work to increase the credit score(s)

Although this is the hardest option which typically takes longer than the other options this is the option most customers must opt for because the other options are not available to them. In a situation like this your mortgage lender may have options to assist you in methods to increase your credit score. If not, you may also seek out a credit repair company to assist you (BEWARE: some credit repair companies are nothing but scams to take money from people in desperate situations so do your research or get a referral).

In our case, Bonnie made the majority of the income so removing Clyde was an option that worked well since at the time we assisted Bonnie and Clyde the minimum credit score required was a 580.  When you remove a borrower from the loan their income is removed too.  This is why in Bonnie and Clyde’s situation, Bonnie making most of the money and having the higher score worked to their advantage.

Credit Requirements (Not Just Credit Score)

When we looked at Bonnie’s credit we not only needed to make sure she met the credit score requirement at the time (580) but we also needed to make sure she met the credit requirements for the loan in which she was applying.  Bonnie was interested in FHA financing due to it’s lower down payment, lower monthly payment and easier qualifications.  Each situation is different so there is no way to list the exact qualifications that must be met but for a general idea of what FHA requires check out our post about FHA Mortgage Loan Requirements.

Bonnie did meet the credit requirements and from the initial questions her qualifications looked good.  The next step was to complete the pre-approval process.

Lending a Hand

Scott Wynn

The Wynn Team

The first thing I typically ask those interested in this question is whether or not they have any other debt they are currently making payments on including auto loans, personal loans, student loans, credit cards, or finance companies.  The typical answer, based on yesterday’s post, Drowning in Debt, is yes.  If that is the case then considering the outstanding balance, interest rate and payment on that debt will help in determining whether or not paying down the principal balance of your mortgage is smart.

As of today, Bankrate.com’s Interest Rate Roundup shows that the average rate for a 48 month used car auto loan is at 7.93% and the average fixed rate credit card interest rate is at 13.42%., while the average mortgage interest rate is 6.77% for a 30 year fixed mortgage.  Simple math and some common sense shows that a 13.42% rate on your credit card is worse than a 7.93% interest rate on your car which is worse than a 6.77% interest rate on a mortgage.  Paying off higher interest debt is smart choice in my eyes.

Outside of interest rate is the financial impact a debt has on the person paying the best.  The payment should be considered when deciding on what debt should be paid off first, too.  Consider a principal and interest mortgage payment on a $200,000 home at a rate of 6.77%.  The payment would be $1,299.86/mo or .65% of the outstanding balance.  Now let’s calculate a payment on an auto loan with a balance of $20,000 at a rate of 7.93% would be $487.60/mo or 2.4% of the outstanding balance.  And lastly, the credit card with an outstanding balance of $7,500 and a rate of 13.42% is about $300/mo or 4% of the outstanding balance.  When you look at these numbers it is easy to show that by paying off the credit card you will save the most money compared to the balance, followed by the auto loan and then the mortgage.

So far with two different ways of looking at it, paying off the highest interest rate debt will make the biggest impact to your short term financial situation and allow you to pay off other debt quicker.  It sounds like that is the solution then – to pay off the highest interest rate debt, then the second highest and so on, right?  Well consider other opportunities.  Most companies these days offer a matching plan for a retirement account of 50% or even 100% for a certain percentage or dollar amount you contribute from your paycheck.  So, if you contribute $100 towards your 401k matching plan at work and your employer contributes a 50% match, or $50, you just made 50% on your money.  Would you rather save 6, 7, or even 14% on your debt or make 50-100% on your money?  I think I would rather make 50% than save 14%.

Lastly, think about setting aside some savings before paying off any debt or contribution to your retirement.  If you pay down your mortgage or contribute to retirement, accessing the money in a crunch will be difficult.  What if you lost your job and you need cash now to pay for gas, rent or your mortgage, if you used all your extra cash to pay down the principal balance on your mortgage the only way to get that money is through selling your home, refinancing the mortgage or getting a home equity line.  Most lender these days wont even look at lending you money if you don’t have a job.  I suggest setting about 6 months worth of living expenses in a savings account as a “just in case” fund, so you can access it when, or if, you need to.